Argentina's President Just Shot Her Country In The Foot

Argentine President Cristina Fernandez de Kirchner has officially set in motion a plan to take a 51% controlling interest in YPF (NYSE:YPF) -- Argentina's largest oil and gas company. This action effectively nationalizes the company. She justified this by claiming that YPF was not investing enough money in oil and gas development in Argentina. Her rhetoric played well with the Argentine public, who naturally don't care for the idea of foreigners getting rich on Argentine natural resources. Unfortunately Fernandez de Kirchner's gunslinger mentality does not work well in the modern world, which is increasing controlled by banks and investors. This dynamic, gunslinger wannabe just shot her country in the foot. That is always the danger with gunslingers with huge egos and little experience (or little understanding of economics).

Why do I say she shot her country in the foot? Most obviously her takeover of YPF thumbs its nose at international business law. It says, "we Argentines have the right to do anything we want to in Argentina. Foreign businesses have no legitimate claim to anything Argentine." This sounds good rhetorically to Argentines. However, for a country desperately in need of investment capital, it will ensure that Argentina sees a much smaller slice of the investment pie than countries that are willing to uphold their business agreements. It means many foreign investors will be trying to dump Argentine assets. It will deflate the value of all Argentine companies trading internationally. It will cause a credit crunch in Argentina. We in the US know how that feels after the recent Lehman Brothers default and the subsequent credit seize up. However, what we experienced will be nothing compared to the credit drought that will likely hit Argentina.

Argentina had approximately $136B in external debt as of Dec. 31, 2011. Argentina has high inflation. Its peso has continually devalued versus the USD over the last five years (from 3.1105 pesos per USD in 2007 to 4.3960 pesos per USD today). If Argentine credit dries up, this trend will accelerate because external credit is in Euros, USDs, and Yuan. These are the currencies that stabilize the Argentine peso.

Some speculate the nationalization of YPF was done in order to prevent a sale of YPF by Repsol YPF (57% owner of YPF) to China. The Argentines do seem very worried that their natural resources are being bought up. They seem particularly worried that the Chinese are trying to buy up more and more of the country. China has a lot of mouths to feed -- 1.3+B, but it has limited land suitable for agriculture. China has limited water suitable for use in agriculture, in business, or to drink. Argentina is understandably worried that China will use Argentina's greater monetary resources to effectively subjugate the Argentines to the Chinese machine.

Unfortunately thumbing your nose at international business law is self-destructive. Argentina needs to prevent the original sales if it does not want to live with the consequences. Argentina needs to make all major external contract sales between other countries subject to Argentine approval. If Argentina does not want a Spanish company (Repsol YPF) to be able to sell YPF to China, it needs to put the appropriate limitation clauses in the original sale documents. If Argentina wants to limit the presence of any one country's power in Argentine business, it needs to enact the appropriate laws before the fact.

It makes sense for Argentina to be afraid of China. Such trade partners as the US and Brazil are relatively resource rich themselves per capita. They present limited danger to Argentina. China -- a huge natural resources importer -- presents a much more scary problem for Argentina. Argentina has to find a better way to deal with this. If they are scared of an eventual military confrontation with China over a business argument, Argentines need to pass the appropriate laws ahead of time to prevent China from acquiring such large interests in Argentina that those interests might in the future lead to military conflict.

Nationalization is not the answer to the above problem. It scares "all investors" away, even those that represent little danger to Argentine sovereignty. Ultimately this is severely detrimental to the Argentine economy and specifically to Argentine external credit. If Argentine external credit dries up, it could send the Argentine economy into a tailspin. It could eventually send Argentina to China begging for help. This seems exactly what Argentina is now trying to avoid. Nationalization was not the way to avoid it. Instead nationalization will hurt US traded Argentine stock valuations. Nationalization will hurt relations with other countries. For instance, Pemex, the Mexican oil company, owns a 9.5% stake in Repsol, the 57% owner of YPF. By hurting Repsol, Argentina has alienated both Spain and Mexico. Destroying international relationships is also economically bad for Argentina.

The US traded Argentine stocks have already been trending downward. I would expect this trend to continue. There might be a blip up after the YPF nationalization announcement sentiment abates, but the damage the withdrawal of external credit and investment will do to the Argentine economy will not disappear so quickly. After the blip up, it is reasonable to expect further downside. I would not want to own Argentine stocks at this time, although many are expecting a rally in YPF. I might consider shorting one or more of the non-nationalized US stock exchange traded Argentine stocks. A few of these are: Telecom Argentina S.A. (NYSE:TEO), Nortel Inversora S.A. (NYSE:NTL), IRSA Investments and Representations Inc. (NYSE:IRS), Banco Rio de la Plata S.A. (OTC:BRPBF), and BBVA Banco Franc (NYSE:BFR).

Good Luck Trading.

Disclosure: I have no positions in any stocks mentioned, but may initiate a short position in BFR, BRS, IRS, NTL, TEO, TGS over the next 72 hours.

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